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Kass: Welcome Back, Seesaw Market

Stocks in this article: TBT

The global stock markets ended last year enthusiastically.

An almost universal bullishness gave way to a disappointing January. The swoon continued into early February, and markets bottomed early last week, with accumulated year-to-date losses of nearly 7% in the U.S.

Fear Surfaced Last Week

A week ago, coincident with last Monday's 90% down day (down 326 DJIA points), sentiment measures moved back to neutral, with AAII bulls falling in half (to 28%), Investors Intelligence bulls dropping from 60% to 48% and the 10-day put/call ratio moving from 0.71 (multiyear low) to 0.89. (Note: During the free-fall, I suggested that stocks were, for the first time in months, in equilibrium, with upside and downside about equal.)

On the following day, Tuesday, put buying surged (put/call pierced 1.60), and the S&P 500 hit a low of 1740 that was successfully tested on Wednesday.

At the same time that stocks got oversold last week, Treasuries got over overbought, completing a near-40-basis-point drop in the yield on the 10-year U.S. note from over 3% at year-end 2013 to under 2.60% in early February. (Note: During this rise in bond prices and decline in bond yields, I began to accumulate ProShares UltraShort 20+ Year Treasury (TBT).)

The deterioration in sentiment on stocks and optimism on bonds set up an oversold extreme in equities and an overbought extreme in fixed incomes, leading to Thursday and Friday's big stock market and bond yield rallies.

How Now, Dow Jones?

The key question is whether the correction is over or whether late last week was simply a stopping point in a larger-scale correction.

Typically stock market oversold rallies last about five to eight days. A healthy recovery off of lows is usually characterized by put buying (persistent skepticism), expanding volume (indicating that the real buyers are back) and good breadth.

That said, I continue to see a trend change in the markets -- and not for the better.

The positive change from an oversold last week was not that convincing. According to Investor's Business Daily, the two weeks of trading had neutral/negative characteristics: Six out of the seven up days were on lower volume, and four of the five days (with the exception of last Friday) were accomplished on higher volume.

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